Record outflow from long term government bond funds while investors continue to add risk

Opalesque Industry Update: The third week of March saw many global equity markets lose momentum as investors consolidated recent gains, revisited assumptions about further easing measures by the US Federal Reserve and looked ahead to the first quarter earnings season. Overall flows into EPFR Global-tracked funds reflected this slowing of the bulls to a trot: commitments to Bond Funds were the smallest since the first week of the year, and collective flows into Equity Funds were a modest $645 million.

However, the promise of better than average returns -- by way of higher yielding debt, dividend paying stocks or undervalued equity -- retained its allure for investors with Financial Sector, High Yield and Emerging Markets Bond and Japanese Equity Funds among the beneficiaries. The search for undervalued stocks did see retail investors commit money to Europe Equity Funds for the first time since mid-2Q11 while Dividend Equity Funds posted inflows for the 62nd time in the 64 weeks since the beginning of 2011.

On the fixed income side there was a marked retreat from low yielding US assets. Outflows from US Long Term Government Bond Funds were the biggest on record, at $1.01 billion, and investors pulled over $13 billion from US Money Market Funds.

Emerging Market Equity Fund Flows

EPFR Global-tracked Emerging Markets Equity Funds maintained their record of attracting fresh money every week year to date going into the final week of 1Q12. But investors continued to opt for diversified exposure to this asset class via Global Emerging Markets (GEM) Equity Funds at the expense of regional and country specific fund groups. Uncertainty about China’s prospects also weighed on investor sentiment: Asia ex-Japan Equity Funds posted outflows for the third straight week while redemptions from Latin America Equity Funds hit their highest weekly total YTD.

"One pattern that did emerge in this week's numbers was a shift from oil users to oil producers," noted EPFR Global research director Cameron Brandt. "Funds dedicated to India, Korea, China and Taiwan, which import anywhere from 50% to over 90% of the oil they use, experienced net redemptions while Russia, Indonesia and Colombia Equity Funds all enjoyed solid inflows."

The eighth consecutive week of flows into Russia Equity Funds helped offset further redemptions from Emerging Europe Regional Equity Funds and allow EMEA Equity Funds overall to post inflows for the seventh time in the past eight weeks.

Enthusiasm for Russia did not translate into enthusiasm for the BRIC (Brazil, Russia, India and China) theme. Dedicated BRIC Equity Funds posted back-to-back weekly outflows for the first time since early January. Of the other two main emerging markets "themes" the CIVETS (Colombia, Indonesia, Vietnam, Egypt, Thailand and South Africa) group of funds has fared best, recording inflows 10 of the 12 weeks YTD and taking in over 20 times the amount attracted by Frontier Markets Funds.

US, Global, Europe, Japan and Pacific Equity Fund Flows

The absence of noise relating to Greek debt and renewed faith that the combination of a weaker currency and rebuilding efforts will generate positive surprises for Japanese equity shaped flows into EPFR Global-tracked Developed Markets Funds during the week ending March 21 with four of the five major fund groups attracting fresh money.

US Equity Funds were the exception as investors responded to fresh doubts the US Federal Reserve will, in the face of reasonable growth and pressure on prices from higher energy costs, weigh in with another monetary package later this year. Funds managed for Growth still outperformed their Value counterparts across all capitalizations and both US Large and Small Cap Growth Funds saw inflows.

Flows into Europe Equity Funds, meanwhile, hit a six week high as retail investors committed fresh money -- albeit a modest $3 million -- to this fund group for the first time in 44 weeks. Germany Equity Funds accounted for much of the fresh money while Norway Equity Funds enjoyed their best week since 2Q10 as investors responded to the country’s oil story and the fact it is not part of the European Union.

It was another good week for Japan Equity Funds as investors committed over $400 million for the second week in a row. A weaker currency has brightened the outlook for exporters and domestically focused businesses are expressing optimism the money earmarked to fix the damage done by last year’s earthquake and tsunami will really start flowing by mid-year.

Improved sentiment towards Japan helped Pacific Equity Funds, which on average allocate over a third of their portfolios to that market, snap a three week outflow streak. The other major diversified developed markets fund group, Global Equity Funds, posted modest inflows for the fourth week running.

Sector Fund Flows

Flows into EPFR Global-tracked Sector Funds were mixed during the third week of March, with investors gravitating towards sectors expected to generate positive surprises on the earnings and dividend fronts.

Foremost among these were Financial Sector Funds which enjoyed their biggest inflow since the second week of October, 2008. The recent "stress tests" of US banks, most of which passed, is seen by many investors as opening the door to higher dividend payments while concerns about European banks have been allayed in the short term by the latest Greek bailout deal and the European Central Bank’s liquidity injections.

Dividends were also on the mind of technology investors after Apple announced its intention of returning part of its cash pile to investors. They committed $340 million to Technology Sector Funds, making it their second best week YTD and third best since 2Q11.

Other fund groups associated with growth did not fare so well. Investors pulled nearly $600 million out of Industrials Sector Funds, snapped Commodities Sector Funds’ four week inflow streak and redeemed modest amounts from Energy Sector Funds. YTD Energy Sector Funds have absorbed a net $2.7 billion versus $8.7 billion during the comparable period last year.

Bond Fund Flows

Riskier asset classes continued to attract fresh money going into the last week of March as investors questioned the value of US government and municipal debt. EPFR Global-tracked US Bond Funds posted their smallest inflow in 11 weeks and Municipal Bond Funds their smallest since the last week of November while High Yield Bond Funds saw YTD inflows move north of $25 billion and Emerging Markets Bond Funds absorbed another $851 million.

Among the fund groups seeing outflows were Long Term US Government Bond Funds, which experienced their biggest weekly redemption in at least five years, and Europe Bond Funds. In the case of the latter, relief that Greece’s debt problems have been contained has been replaced with concern that Portugal or even Spain could be the next to stumble.

Demand for US government debt, both federal and municipal, has come under pressure from the more optimistic tone of recent Federal Reserve assessments of the world’s largest economy. That has bolstered the willingness of investors to look at riskier asset classes and raised questions about the need to further loosen monetary policy. This uncertainty about additional intervention by the Fed later this year also dampened flows into Mortgage Backed Bond Funds, which fell to an 11 week low.

Emerging Markets Bond Funds consolidated their best start to a year on record as YTD inflows moved within striking distance of the $14 billion mark. Their best full year total was set in 2010, with the bulk of the money arriving between April and October. Funds with hard currency mandates pulled in five times the amount absorbed by their local currency counterparts.